Creating a better local business environment (Part 1): The role of local government

How local governments create better business environments for SMEs

In this post, I look at how local government can create better business environments.

How local government can influence the decisions of businesspeople to invest and create jobs

Local government is often overlooked as a critical arena for microeconomic reforms. Local councils can influence the decisions of private businesspeople to invest in the local economy and generate the jobs. This is essential for a vibrant, sustainable community.

While the private sector creates jobs and drives economic growth, governments set the conditions in which this can occur.

This is the first entry in a three-part series on improving the conditions for local businesses.

Across three posts I explore the roles of local government in supporting local businesses as a way of fostering economic growth. I look at how local councils can create better conditions for local business growth.

See Part 2 – What to Measure – and Part 3 – Options for Reform.

These posts are a general introduction into what is an increasingly important field of work and one with further plans for investigation and reform.

Importance of the local business community

Local businesses are essential for the growth and development of the economy. While many economic development strategies focus on gaps in the local economy and how to fill these––for example, by attracting new investments––they often overlook the considerable resource contained in the local business community. This is resource is literally at council’s doorstep.

While many local governments give a passing nod to the importance of the business community, most are unaware of how their actions affect local business and the impact this has on the economy. Sadly, local government engagement in this field has often sought to protect existing businesses and not create the conditions for competition and further investment. It is not unusual to find local councillors who are also businesspeople with an interest in protecting their own interests and keeping outside competition at bay. Often inadvertently, councils make decisions that reduce local competition and hamper business growth.

Furthermore, when local governments do acknowledge the role of local business in economic development, they often overlook the importance of micro, small and medium enterprises, in favour of large firms. Many councils are eager to attract large businesses to town, in the belief these firms will create the jobs and economic opportunities the area requires. While larger lead firms have an important role to play in the local economy, the small business sector, including micro and very small enterprises, are the backbone to most local economies.

Incidentally, the problems with state and local governments in America seeking to attract outside business is being dramatically illustrated with the current competition between cities bidding to be the home for the second Amazon headquarters, or ‘Amazon HQ2’, as it is called. As Politico recently described it: ‘more than a hundred would-be hosts have assembled generous packages with everything from multibillion-dollar tax breaks to free utilities to an offer to build Amazon its own city (also named Amazon) in the hope of enticing the online retail giant and up to 50,000 of its handsomely paid employees’. This has led to an online petition by 50 prominent economists, appealing to city administrators to stop these ‘rent-seeking and anticompetitive’ behaviours. Similar behaviour is well documented in Greg LeRoy’s The Great American Jobs Scam, in which it is shown how corporations play states and cities against each other to win hefty taxpayer subsidies that routinely exceed US$100,000 per job.

In recent times, driven by a growing interest in innovation and entrepreneurship, governments are eager to encourage the growth of new business start-ups. This has led to the support for special local initiatives, such as business incubators, business management training and accelerator programs. As useful as these initiatives can be, they overlook the bulk of the local investor community. Before developing programs to support new businesses, governments should examine the ways they can create better conditions for all.

In the last decade, increasing attention has been given to the role of national business environments and their influence on private investment and economic growth. As the global economy becomes more integrated, nations compete for investors. National governments improve their policies, laws and regulations to make it easier for businesses to invest. While maintaining, and in some cases strengthening, standards and protections, national governments create more competitive conditions for private firms. They help firms reduce compliance costs and encourage competitive investments into new jobs, technologies and skills.

These national reforms contribute to economic growth. However, on their own, national reforms are not enough. Sub-national governments––at the state and local levels––also need to consider the impact their laws and regulations have on business, employment and incomes.

Local government authorities have significant influence over the wellbeing of the local business sector. They can stimulate innovation, productivity and competitiveness or they can make it more difficult for firms to operate and grow.

Local business environments affect investment decisions

There are a range of factors that affect business and its potential to grow. The most important are of these are markets. Businesses grow based on their ability to compete in the marketplace. However, there are other factors that shape the decisions of private investors.

The investment climate contains locally defined factors that affect private investment decisions. This includes the access firms have to markets, as well as infrastructure, facilities, business networks and utilities. Key ingredients to a good investment climate are the policies, laws and regulations that govern business activity.

In Australia, national and state laws and regulations play a major role in setting the business environment. Examples include the procedures associated with business registration, labour and industrial relations, and taxation. However, the local business environment also affects the decisions of private investors and business owners.

From a local government perspective, local business environments encompass: (1) policies and strategies for economic and business development; (2) local laws and regulations that govern business activities; and (3) the institutional arrangements for dialogue between council and the business sector and other relevant actors. See the table below.

Poor business environments can reduce the ability of firms to compete and expand. While governments often design economic or business development strategies, getting the local conditions right for business is an important, if often overlooked, first step.

The Productivity Commission in Australia noted in its 2011 Productivity Review that the while the quality of local government decision-making is often criticised, ‘this level of government is responsible––in principle, at least––for one of the most important decisions that can generate employment nationwide: the investment by a myriad of small and medium sized business in land or building developments and service improvements’. ‘Poor capability’ in these areas, says the Commission, ‘will be reflected in poorer investment outcomes’.

Creating better local business environments

Local governments can create better, more dynamic and competitive business environments in which local businesses thrive. They do this by better understanding the challenges, constraints and opportunities facing local businesses and by taking a ‘whole of the economy’ perspective that is not dominated by the voice or interests of one or two large, noisy or politically connected businesses. Governments should see the local business community as the engine for inclusive growth, providing jobs, services, products, and a quality of life for local residents and visitors.

Using the three elements of the business environment described above, local governments can create business environments that are conducive to inclusive growth by pursuing:

1. Policies and strategies for economic and business development that identify local challenges, problems and opportunities and help economic actors to respond to these. They set the framework for council to act within and provide a vision for how government can foster business development that leads to better economic, social and environmental outcomes. They create a basis for working with other tiers of government, business, academia, and the local community to share information and facilitate local partnerships and innovative approaches.
2. Local laws and regulations that govern business activities in an efficient and effective manner, ensuring they are a realistic and proportionate response to the problems they are designed to address. It is important to stress that a good business environment does not mean the de-regulation of business activities, but rather the use of effective and proportionate regulation. Good regulation is essential––not only for the protection of residents, consumers and the environment, but also for markets to function properly. Bad regulation, which is poorly targeted, costly, bureaucratic, and cumbersome, can undermine business growth and good governance.
3. Institutional arrangements for dialogue between council and the local business sector so that the business community is able to talk with a government that listens, and where government can consult with business on its own plans and proposals. These mechanisms open up dialogue, so that it goes beyond a cosy club of those who are ‘in the know’ and accommodates the diverse views and experiences of local business. Moreover, councils need to engage with a wide range of diverse stakeholders and facilitate links between local businesses and teaching institutions, research organisations and other civil society organisations.

These approaches help define better business environments and improve the understanding of how local governments can influence economic growth. They show how local governments can influence the conditions under which private firms operate setting the conditions for business growth and stimulating innovation and competitiveness.

Reducing costs and risks, while increasing local competition

Local business environments seek to achieve three things.

First, they reduce the cost of compliance as much as possible. Making it easier, less time-consuming and generally cheaper allows private investors to focus on business. While all regulatory functions impose some cost, this cost may be reduced. For example, the use of digital technology has shown how processing times can be reduced saving money for business and governments alike. As discussed in Part 3 of this series, this is not about deregulating business activity. It is about smart regulation.

Second, they reduce risk as much as possible. By improving rules, making them more transparent and removing discretionary decision-making, councils help investors to know where they stand. When special deals are required or where the processes are unclear, investors get nervous and wonder if their investments are at risk. Councils should create conditions that reduce risk and build confidence among private investors.

Third, they increase local competition by making it easier for new businesses to start-up and enter the market. While local businesses that have been established for years may be threatened by new entrants, there is clear evidence that the broader economy and community benefit from a competitive business environment. It is important for councils to take a economy-wide perspective on these matters.

Pivotal role of local government

Working with the local business community, local government can create better business environments.

While there is tremendous variation in the mandates and powers given to local governments, international literature, including OECD research, classifies the broad roles of local government into four main categories: (1) representation (activing on behalf of the community); (2) services (the delivery of activities, amenities and infrastructure); (3) regulation (the provision and enforcement of guidelines and rules); and (4) development and investment (the stimulation and management of sustainable economic growth and social and environmental well-being). Within this fourth role, local government is required to work with different markets, geographies, timeframes, partners, financing, stakeholders, tools and audiences.

In Australia, state governments prescribe the roles and powers of local government authorities. While all local governments have expanded their role beyond the traditional rates, roads and rubbish, there is some variation in the attention given to their role in supporting economic development.

Despite this, local governments have a significant impact on the investment decisions made by local business and these decisions directly affect the local economy. From a business and economic perspective, local governments perform a number of interlinked roles when it comes to business growth:

1. Planning and regulating: ensuring the liveability of an area by regulating where, when and how business activities can occur, while protecting consumers, residents, and the environment, and ensuring a level playing field for all. This includes decisions associated with planning and development approvals and the administration of building services.
2. Developing and attracting: supporting the development of the local economy and its business base through programs and services that help firms do better and facilitating investments into the local area. This may include support for business development advisory and management training services, incubator facilities and information on the local economy and business sector. It also includes the development of business-related infrastructure and facilities, including the new challenges associated with digital transformation and the integration of digital technology into all areas of business––see the Australian Local Government Association.
3. Mediating local interests: councils are often required to mediate between competing interests, where, for example, a property developer wants to develop a new tourist resort or a national franchise wants to set-up in the main street. Local governments intervene and represent local interests for the wellbeing of the community and its economy.
4. Facilitating and partnering: addressing the development challenges of many local communities is often beyond the scope of a single council. Many development challenges today are complex and require more than one actor. Increasing, local councils realise that they must work with other public and private partners to facilitate economic growth and provide the services and products the community needs. For example, in Tasmania, the role of local government has been described as facilitating economic development ‘by working with the business community to attract and retain investment and support sustainable economic growth’.

Where do we begin with local business environment reform?

At this point, I hope you can see how local government can create better business environments. In my next post, I examine the ways to assess the local business environment. There are many tools that can be used to do this. These need to be tailored to address the practical concerns of private investors, while responding to the local government context.

See Part 2 – What to Measure – and Part 3 – Options for Reform.

Get in touch!

If this post deals with issues of interest to you or you want to talk more about how to make your business environment more conducive to local business and economic growth, then feel free to get in touch.

Also, check out the MyPlaceMatters website.

Simon White

Economic Growth | Business Development | Job Creation